Blowing up the WTO

The idea (nightmare?) of a global carbon tax, complete with potential trade wars over competing national carbon tariffs, is barely off the ground. Already, though, economic mercantilists are counting the alleged benefits. To wit: "A carbon tax, coupled with triple-digit oil prices, could reverse the migration of certain manufacturing industries that have left North America for much cheaper labour markets in China."

Wow! A hidden bonanza in a policy initiative that otherwise has the potential to create economic turmoil and hardship for countries like Canada. The words are in a report last week from Jeff Rubin and Benjamin Tal of CIBC World Markets. Don't worry about carbon taxes imposed by Canadian governments, they imply, because there's an offsetting policy move that could pay off big. It might even bring jobs back to North America and Europe that had been lost to cheap-labour developing countries such as China and India.

The offsetting policy move, the magic bullet, is to impose carbon tariffs on goods imported into Canada from places like China. As Mr. Rubin put it: "Imports from countries that do not play by the same carbon standards will be subject to a carbon tariff that will contervail the implicit trade subsidy that they derive from what goes up their smokestack."

The economic and trade jargon in that sentence, while seemingly sensible, is not without its legal potholes. Indeed, one aspect of what it proposes is likely illegal under global trade rules. Imposing tariffs on carbon, even if it could be done in a legal trade context, would be so complicated it would become a dangerous threat to trade stability.

This is the second report from Canadian economists to wax enthusiastic about a carbon tariff. Thomas Courchene and an associate at the Institute for Research on Public Policy, writing in the latest issue of Policy Options, proposed a "carbon import tariff" on goods that may not face carbon taxes in their home countries.

Carbon tariff regimes are recipes for global trade wars. But trade law is not for the amateur, so I consulted two experts, Lawrence Herman and William Dymond. Neither expressed support for the idea generally.

First there's the legality. It would be illegal under World Trade Organization (WTO) rules to impose a tariff on imports if the purpose was to offset what Canada might consider lax environmental and other non-tax policies in foreign countries. If China fails to regulate its coal sector so as to reduce carbon emissions, Canada cannot raise tariffs on Chinese goods imported into Canada.

Environmental activists and sustainable development institutes have been trying to work environmental issues into trade law for years, but they have met with little success. Any attempt by Canada to impose a tariff to offset developing country regulatory practice would contravene global trade law.

"You can't simply impose a carbon tariff at the border without running afoul of the basic rules of the WTO," Mr. Herman reports. "Canada has bound its tariffs. We can't just say we don't like what country X is doing, so we're going to impose a carbon tax or tariff on its imports." When Europe, for example, says it might impose a tax on imports from countries that do not meet general Kyoto targets, it is proposing a measure that would be illegal under the WTO system.

In theory, Canada would be on firmer legal ground if it were to impose a carbon tariff on imports from China that was equivalent to the carbon tax Canada imposed on Canadians. But how would that tariff be applied? Under trade law, a border tax is generally only acceptable if it is intended to capture from imports a direct tax that is also applied locally. For example, if the Canadian tax were imposed as an excise tax on gasoline, then Canada could work up a justification for a border tax --on gasoline. That's already done. How do you apply that gasoline excise tax on power drills or iPods imported from China?

This is a legal and practical quagmire. To figure out the appropriate tax level would require a mind-blowingly elaborate carbon-measurement scheme, created on a global scale. It would have to be able to determine how much carbon emissions are embedded in the power drill that is nominally made in China, but is actually assembled from parts made in a dozen other countries. Some of those countries may or may not have carbon control programs in place.

The more indirect the carbon tax in Canada, the more difficult it is to apply the same tax to an imported good. A $100 a tonne tax on carbon at the energy-production level -- oil, gas, electricity -- in Canada would mean, somehow, assessing the carbon content of all imports and then imposing a tariff of equivalent value.

As noted in this space last week, all this is a recipe for global trade wars. It would mean, in effect, blowing up the WTO trade system to create a parallel Carbon Trade System that would be based on the opposite principles. The objective would be to restrict trade, not increase it; to control trade, not liberate it; to increase trade conflict, not reduce it; to weaken the economy, not strengthen it.